Saturday, 23 February 2013

Any health service needs to ration the care it provides somehow - there are not enough resources to pay for all and every course of treatment that may be of benefit. The UK has, in principle, a highly institutionalised way of rationing care through the National Institute for Health and Clinical Excellence. The basic idea is that NICE studies the medical evidence and makes an informed cost-benefit judgement on the desirability of a particular treatment. If the social costs look bigger than the social benefits then they provide guidelines to the National Health Service that the treatment should be provided. The advantage of this system is that it promotes systematic, objective, universal judgements.

But, this week we saw some of the problems with such a system. NICE announced that IVF treatment should now be available to women aged up to 42, rather than the current 39. It was decision that prompted a lot of discussion. Most discussion seemed to revolve around two distinct issues.

Part of the discussion revolved around a 'Lucas critique like' criticism of the decision. At the moment there are presumably lots of women aged 40 to 42 who could have healthy babies through IVF but are not given the opportunity. Now they should be - which looks like a good thing. The concern, however, is that the change of policy will incentivize women in their late 30's to delay having children - and given that delaying child birth leads to a higher probability of complications, this looks like a bad thing. We get, therefore, a classic policy conundrum - will a change in policy, change behaviour? Most doctors I heard on the radio were of the opinion that behaviour would not change and hence the policy is a good thing. Some doctors, however, we arguing that behaviour would change, and I have some sympathy for this latter view.

Game theory and behavioural economics teaches us that people are highly responsive to both incentives and framing. In this instance both combine. Women are incentivized to have children later in life (or, at least, are not incentivized to have them early in life). Moreover, the NICE decision makes having children later in life 'seem safer', or 'seem easier'. As this decision feeds through to society - as people get to know someone who knows someone who had IVF when she was 41 - its hard for me to believe this will not change behaviour. At the margin, women will delay childbirth. Whether this is a good thing or not is not for me to judge. But, it does highlight a potentially problem with NICE. It is so big and important that its judgements can change behaviour and perceptions. NICE currently ignores this, but it shouldn't. If the IVF policy does mean some women delay childbirth then it has social benefits and social costs that NICE will have ignored and so we may get the wrong guidlines.

The second issue of discussion was whether the guidelines mean anything. Cash-strapped NHS trusts already refuse IVF to women in their late 30's and so its not clear whether the guidelines will be followed through. This raises a fundamental question about the role of NICE. If its role is to advise on treatments that are cost effective then why is that advice being ignored? The simple answer would be that not enough money is being spent on health care. A more complicated answer would be that the way NICE makes judgements mean it is not flexible enough to ever work.

To explain, suppose that NICE says yes to any treatment that provides an extra QALY (quality adjusted life year) for £30,000 or less. For example, advances in IVF mean that its made available to women up to age 42 because it fits the criteria. Problems come when there are so many advances, and so many patients, that the NHS budget can no longer cope with providing every treatment that costs £30,000 or less. Fine, we can raise the bar to, say, £35,000. This, however, will naturally, only be applied to new treatments. It would be deemed unethical to stop funding treatments that had previously been funded. This inability to change guidance on existing treatments means that NICE can never satisfy its remit of rationing health care. (NICE does change guidance on some existing treatments, but only if new information changes the estimated cost-benefit analysis.) To ration health care most effectively would require constantly changing the cost society is willing to pay for a QALY. That is unlikely to ever be deemed acceptable. Over time we could thus see an erosion of NICE's importance as guidelines increasingly become ignored. That puts doctors and nurses back in the driving seat in terms of rationing care.

Friday, 15 February 2013

It has been a bad season for the mountain rescue teams in Scotland - another avalanche yesterday, coming just days after a student from Leeds University died. I know nothing about these individual cases so would not want to comment on them. But, they are a reminder that the most important skill in mountaineering is not reading a map, using an ice axe, or knowing how to tie onto a rope - it is knowing when to ditch plan A and go onto plans B, C and D. The human propensity for time-inconsistency, however, makes this a surprisingly difficult skill too master.

For example, I remember many years ago attempting a quick trip up Snowdon in Wales. I'd been marking essays or something and needed some respite. It was a gnarly day - the wind was very strong, visibility poor, snow, ice etc. I met a mountain guide half way up with a few clients and he confidently predicted that no one was getting to the top today. I carried on and got within 200m of the top before finally turning back. This example comes to mind as powerful reminder of the difficulties of being time-consistent. I have climbed Snowdon many, many times, and had already had a great day out on the mountain - there was nothing at all I would gain from walking that extra 200m - the optimal decision was obvious - yet the desire to go on was so strong. That desire is what behavioral economists call present bias. A bias that means the 'short-term self' can make a decision the 'long-term self' would not have made.

Another example springs to mind. This time in the French Alps where I needed to cross an avalanche prone slope. On this occasion it was an absolutely beautiful day, but the sunlight was only going to increase the chances of the slope crashing down around me. I got 50m across the slope before sense prevailed and I retraced my steps. I mention this example because I remember standing on the slope, seemingly in slow motion, as one part of my brain did battle with another on the merits of continuing across the slope. Again, in the cold light of day - the decision is obvious - the slope was too dangerous. But the desire to go on was strong.

Whether they know it or not experienced mountaineers are well aware of time-inconsistency. They will have a series of mental tricks that they use to overcome present bias. The most common trick, for example, is to set a cut-off time at which to turn around no matter what. Experience is the key thing here. With experience, people can learn to control present bias. For example, the good student might have mental tricks to make sure homework is not left until the last minute. Someone on a diet can have tricks to avoid eating chocolate. And someone who has quit smoking might have tricks to avoid the urge to smoke. Present bias is more of a problem when people are inexperienced, saving for retirement being the classic example. We only retire once, and then its too late to realise that we should have saved more while we could.

What I find most thought proviking, however, about recent tragedies in the Scottish mountains is that they have involved groups of people. Behavioral economics is now pretty good at understanding an individual's decision. But, we are still woefully unaware of how group decisions compare to individual decisions. Are a group of people able to avoid the present bias of individual group members? Or, can the present bias of one group member infect others? We have no idea what the answer to these questions are. That seems like an intruiging challenge for future research.

Tuesday, 12 February 2013

The Premier League has recently agreed to new financial controls. Part of the deal is a cap on player wage bills. Economists usually
criticize attempts to control market prices. But, sometimes a cap has merit, and
I think this is one example.

First, let’s go through the standard argument against a cap
on salaries. Suppose that a player called Hotshot would add £10 million in
revenue to a club. Then, competitive logic says Hotshot will be paid £10 million.
Any less than this and other clubs would have an incentive to buy him and pay
him a higher wage. Hotshot’s marginal product is £10 million and so that’s what
he will be paid. A cap on salaries would just force clubs to find some roundabout
way to reward the player for his worth. For example, they could offer him a
longer contract, or perks. All a cap does is to distort the market.

The flaw in this logic is that football is a zero-sum game.
One team’s loss is another’s gain. The situation is, therefore, more akin to an
all pay auction. To explain why this matters consider the famous dollar auction
due to Martin Shubik. The story goes something like this:

Imaging I am going to auction a £1 coin. The twist to the
tale is that everyone who bids has to pay me the amount of their highest bid.

Andy starts the bidding off at £0.50.

Dave then bids £0.60.

As things stand Andy has to pay me £0.50 and gets nothing in return. He bids £1.00.

As things stand Dave has to pay me £1.00 and get nothing in return. So, better to bid £1.50, win the £1 coin and only lose £0.50. He bids £1.50.

But then, Andy stands to lose £1.00. Better to bid £1.60, win the £1 coin and only lose £0.60. He bids £1.60.

If you’re wondering where this all ends – it doesn’t. We
have to wait until Andy or Dave go bankrupt. Auctioning a £1 coin can be,
therefore, a very profitable venture.

And auctioning the Premier League trophy is a similarly
profitable venture. All the premier league teams are vying for the trophy – the
£1 coin. The analogous story would go something like this, where the value of
winning the league is put at £100 million:

Manchester United have a team with wage bill £90 million and Manchester City a team with wage bill £80. This means Manchester United will win the league under current circumstances.

Manchester City believe that buying Hotshot will win them the league. That’s worth £100 million and so paying him £20 million looks like loose change. They buy Hotshot and pay him a wage of £20 million pushing up their overall wage bill to £100 million.

Manchester United respond by buying Hotshot’s twin brother Hamish. Again, that’s worth £100 million and so paying him £20 million looks like loose change. They buy Hamish and pay him a wage of £20 million pushing up their overall wage bill to £110 million.

Manchester City respond by buying Hotshot’s friend Doug. Again, that’s worth £100 million and so paying him £20 million looks like loose change. They buy Doug and pay him a wage of £20 million pushing up their overall wage bill to £120 million.

The story goes on until one of the teams goes bankrupt. The
key thing about this story is that marginal productivity is relative. On the
day that Manchester City buy Hotshot he is worth £100 million to them because
he will win them the league. However, on the day that Manchester United buy his
twin brother Hamish the marginal productivity of Hotshot drops to £0. Instead
Manchester City need to buy another player in order
to win the league and recoup the sunk costs already spent on Hotshot. This is a dangerous game.

A cap on wage bills can help clubs find a way out of this
mess. Instead of clubs spending until they go bankrupt, they will now only have
to spend until they hit the cap. Clearly clubs will try to find ways around the
cap. But, it does make economic sense to try and enforce the cap.

And what about bankers? Bankers often justify high salaries and bonuses on the grounds of marginal productivity. Banks, however, are playing a very similar game to football clubs. So, maybe we should help the banks with a cap on salaries? I doubt it would have the catastrophic effects many in the finance industry predict.

Tuesday, 5 February 2013

Ask any self-respecting economics graduate the definition of
a public good and they will tell you the answer: it is a good that is
non-excludable and non-rivalrous. Which means that once it is provided
everybody gets to consume it, and that one person’s consumption of the good does
not detract from another person’s enjoyment of it. Simple enough, one might
think. But, I sense a lot of disagreement about the nature of public goods. For
example, I presented a paper recently on step-level public goods, and the
audience was keen to dispute that a step-level public good ‘really is’ a public
good. So, what’s the problem?

The definition of a public good only tells us about the
consumption side. It leaves a complete blank as to how the public good will be
produced. And this is where the differences start to surface. To most
economists, if you say public good, the picture that first comes to mind is of a
smooth linear or concave production function; the more people contribute
towards the public good the more is produced. To most psychologists, if you say
public good, the picture that comes to mind is seemingly of a step level
production function; contributions need to reach particular thresholds to
provide the good. We need not stop with these two examples. One can have a
minimum-effort production function in which the quantity of the public good is
determined by the minimum contribution. Or, one could have a best-shot
production function in which quantity is determined by the largest
contribution.

How a good is produced is irrelevant in determining whether
or not it is a public good. So, if people have a picture of what the production
function of a public good ‘should be like’ we get a source of confusion and disagreement.
The problem, however, is a little bit deeper than this. If the production
function is smooth then the public good is underprovided by the market. If the
production function is of the step-level, minimum effort or best-shot type then
the public good can be efficiently provided by the market. Economists are educated that public goods are
underprovided by the market; hence it is natural for them to associate public
goods with smooth production functions. Psychologists focus more on the
coordination aspect of providing public goods; hence it is natural for them to
associate public goods with step-level production functions. The confusion and disagreement
is not, therefore, just about production functions, its also about whether
markets can provide public goods efficiently.

This is worth keeping in mind when looking at public goods.
Economists, for instance, are almost certainly biased towards thinking
public goods cannot be provided by the market. Many public goods are, however,
provided by the market. It is crucial, therefore, to also think about how
public goods are produced.